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Tuesday, February 10, 2015

CRISIL Research estimates show India’s organised quick service restaurant (QSR) market size to be worth Rs 58 billion in 2013-14. The industry is expected to grow at 26 per cent CAGR (Compound Annual Growth Rate) over the next three years to Rs 117 billion by 2016-17. Nevertheless, its share will remain a miniscule 2-3 per cent in comparison to the overall domestic food services industry. [National Restaurant Association of India estimates the size of the domestic food services industry (organised and unorganised) at Rs 2,476 billion in 2013, and projects about 11 per cent annual growth to Rs 4,080 billion by 2018].

Growth of QSR industryGrowth to be driven by outlet expansionsThe QSR industry’s growth over the next three years will be primarily propelled by an average 16-18 per cent growth in store additions. During this period, same-store sales growth will be muted, averaging 6-8 per cent (significantly lower than 12-15 per cent average of last three years). We expect same-store sales to remain lower in the near-term but pick up later.

Established players are expected to account for about two-thirds of store additions. Among the established QSR chains, foreign players, namely Domino’s Pizza, Subway, McDonald’s, KFC and Pizza Hut, are together expected to comprise about 40 per cent of overall store additions. The contribution of relatively new entrants will also be significant at over 30 per cent share; brands such as Dunkin Donuts and Krispy Kreme that have entered the market in the past two years are expected to rapidly expand their store network. Players such as Burger King, Wendy's and Johnny Rockets are slated to enter the market as well.

In the case of same-store sales, growth will largely be from price hikes; QSRs have been raising prices by 5-6 per cent annually. However, average transactions per outlet will stay relatively flat mainly due to a more mature store profile (stores operating for over two years) for the bigger brands and higher competition. New entrants, though, could see an increase in transactions per outlet.

Same-store sales growth to pick up; historical levels unlikelySame-store sales growth, which was robust at 20-25 per cent in 2010-11 and 2011-12, plummeted in 2012-13 and 2013-14. Cannibalisation due to opening of multiple outlets in the same catchment area, stiff competition, and economic slowdown leading to decline in discretionary spending, coupled with high food inflation, impacted same-store sales. Same-store sales of both Jubilant FoodWorks (master franchisee for Dominos and Dunkin Donuts in India) and Hardcastle Restaurants (franchisee for McDonald’s in the south and west) edged lower by 2 per cent and 9 per cent, respectively, in the first quarter of 2014-15 compared to growth rates of 25-30 per cent in 2011-12. Yum Restaurants India divisions’ same-store sales dipped by 4 per cent during the July-September 2014 quarter.

Same-store sales of Dominos and McDonald's decliningCRISIL Research expects same-store sales to gradually pick up, aided by improvement in discretionary spending triggered by economic recovery: after a sub-5 per cent growth rate for two consecutive years, the Indian economy is expected to pick up in 2014-15 and 2015-16.

However, same-store sales growth will not rebound to historic levels of 20-25 per cent because of increasing competition and cannibalisation, especially in metros and tier I cities. Also, a mature store profile will limit any sharp improvement in same-store sales growth for the established brands - close to two-thirds of the total stores for larger brands such as McDonald’s and Domino’s are more than two years old. Hence, large QSR chains have been gradually moving to tier II and III cities, where competition is limited.

Foreign brands to maintain dominant positionForeign brands dominate the QSR industry with over 60 per cent market share (in terms of number of outlets). In terms of value, the market share of foreign brands is higher vis-à-vis domestic brands as most have better average transaction size as well as number of transactions per outlet. The strong brand image and larger store area allows foreign brands to cater to larger number of customers.

Riding on the success of these international brands, the Indian market also witnessed the emergence of domestic brands such as Jumbo King, Goli Vadapav, Faaso's, Kaati Zone, Yo! China and Smokin’ Joes. However, most domestic players have been struggling to adapt to the quick service format.

Over the next three years, CRISIL Research does not expect a drastic change in the ratio of Indian and foreign QSR brands.

Foreign brands have been successful in tier I cities and are now expanding rapidly into tier II cities. These brands typically operate through the franchise model, which is an efficient way to scale up operations as it reduces capital burden.

By contrast, Indian brands are finding it difficult to scale up operations. Over the last two years, store additions of Indian brands were a mere one-tenth that of foreign brands. Some Indian brands such as Fasoo's revamped their strategy to achieve scalability. Indian players need to build their brand image; one of the tools to do this is by ensuring standardisation across product offerings by efficiently managing the logistics chain.

Foreign cuisines more adaptable to QSR formatForeign cuisines have a dominant share of the QSR market due to easier adaptability to the cold storage format and their quick-to-serve nature; pizzas, burgers and sandwiches account for about 85 per cent of the total market size in value terms. Indian food, which is prepared through complex processes using several ingredients, is difficult to translate into an assembly line production model. However, domestic players such as Goli Vada Pav and JumboKing are trying to adopt the successfully implemented cold storage model to their domestic cuisines.

Market share break-up based on cuisines 2013-14E (value terms)Interestingly, many players are also adding new products to their menus. A case in point is Domino’s Pizza, which launched wraps in May 2014. McDonald’s also now offers wraps. At Pizza Hut, non-pizza menu comprises about 50 per cent of the menu.

Severe competition in QSR especially in metros / tier I citiesThe Indian QSR market is highly competitive where players compete through core offerings and product variations not just among the organised segment but also among the huge unorganised market. Customers now even have various options and preferences to choose from.

The degree of competition can be understood by the fact that the same brand has multiple stores catering to the same micromarket, in addition to the presence of other QSR brands serving similar food. One such instance is the presence of two stores of the same brand in a single mall, one for dine-in and the other for delivery.

Competition in the burger segment will also increase with large global players, namely Burger King, Fatburger, Wendys and Johnny Rockets, expected to enter the market. Johnny Rockets recently opened an outlet in Delhi and Gurgaon. The US burger chain, Burger King, plans to open stores in Mumbai and Delhi this year through the franchisee route. American burger chain, Fatburger, has appointed Vazz Foods as its master franchise in India.

In the donuts segment, Mad over Donuts was enjoying a near monopoly in India since its entry in 2008. However, the entry of Dunkin Donuts and Krispy Kreme has increased competition within this category as well. Dunkin Donuts, which sells burgers and donuts, entered India in January 2013. Krispy Kreme recently entered India through a franchise agreement with Citymax Hotels India Pvt. Ltd.

Foreign chains move towards tier II, III, new entrants - metrosHaving set up operations in the metros, large chains such as Domino’s and McDonald’s are increasingly expanding their presence in tier II and III cities. Over the last one year, Domino’s strengthened its presence in cities such as Bhiwadi (Rajasthan), Korba (Chhattisgarh), Rajahmundry (Andhra Pradesh), Aligarh (Uttar Pradesh), Hoshiarpur (Punjab), Belgaum (Karnataka), Dharamshala (Himachal Pradesh) and Rangpo (Sikkim). Over the last one-and-a-half years, Hardcastle (McDonald’s) has opened outlets in tier II cities such as Coimbatore, Mysore, and Kochi in the south and Rajkot and Mehsana in the west.

Such expansions help utilisation of cheaper real estate in smaller cities, but also allow large chains enter relatively untapped markets. Opening outlets near highways allows the large chains to draw benefits from cheaper real estate and cater to customers who are constantly on the move. However, the relatively new entrants, especially the domestic QSR brands, will remain focussed on bigger cities to establish their presence and enhance brand recall.

Going forward, we expect QSR growth to be higher in tier II and III cities owing to the huge opportunity to expand in these markets. With metros already saturated, we expect major expansion to take place in tier II and III cities. As disposable incomes in semi-urban areas have increased and aspirations to experience brands have gained momentum, there is good potential in tier II and III cities. Hardcastle Restaurants, the master franchisee for western and southern India for McDonald’s, plans to invest about Rs 7 billion over the next five years to expand its restaurant network primarily focussing on tier II and III cities.